February 6, 2023
Each January, the World Economic Forum (“WEF”) convenes global business leaders in Davos, Switzerland to discuss pressing societal issues. With this year’s theme of “Cooperation in a Fragmented World,” the conference’s 53rd installment was a fitting venue to release the Decentralized Autonomous Organization (“DAO”) Toolkit (1). Co-sponsored by the Crypto Impact and Sustainability Accelerator (“CISA”) and the Blockchain Digital Asset Project (“BDAP”), this publication is noteworthy for introducing DAOs to a broader audience and highlighting their potential as vehicles of positive social change (2).
A DAO is composed of a group of individuals that collectively make decisions for an organization. Whereas a traditional entity is governed by its directors, a DAO distributes decision-making rights across all of its participants and does not rely on central authority. Moreover, DAOs are powered by open-source smart contracts – programs encoded to execute based on predetermined conditions – that exist on a blockchain. The nature of these smart contracts, and ultimately the means through which the DAO operates, is voted upon by its members.
By offering representation to its members, increased transparency into an organization’s actions and adaptability to changing circumstances, DAOs could further the aims contemplated by the environmental, social and governance (“ESG”) movement. Broadly speaking, the principles set forth through ESG serve to evaluate an organization through its potential impacts on climate change, its effects upon people and the manner in which its internal policies are regulated. ESG has emerged as a framework for responsible investing over the past several decades, with the intent to mitigate the degree to which a corporation’s shareholders could be deriving benefits at the cost of its broader stakeholders.
Increasingly, investors are recognizing that companies falling short of ESG metrics are not only vulnerable to reputational harms, but also diminished profits from missing out on market developments. The paradigm shift from shareholder primacy towards stakeholder capitalism has been a catalyst for a new corporate entity – the benefit corporation – that allows directors to balance a company’s profit-making objectives with public impact considerations (3). These trends have reached non-profits to ensure that they, too, are operating in an ethical and sustainable fashion.
Even though the forces of ESG have raised the standards of business practices, meeting such expectations requires a fundamental reconfiguration of businesses themselves. Today, over 99 percent of American corporations are privately held and not subject to the disclosure requirements of publicly listed companies. Accordingly, there is limited information as to how the business processes of a company – even one deemed as a benefit corporation – may influence its carbon footprint, impact the lives of individuals or reflect the best interests of its constituents (4).
Additionally, non-profits – which are largely tax-exempt 501(c)(3) organizations – maintain compliance with the Internal Revenue Service (“IRS”) through Form 990 submissions that summarize metrics such as gross income, salaries of key employees and disbursements for relevant charitable purposes(5). Once again, there is an informational asymmetry between leadership working within the walls of a non-profit and others seeking to better understand how the organization operates altogether. Without additional granularity, it can be difficult to discern if a non-profit may inadvertently engage in activities that fall beneath ESG benchmarks and undermine its net societal impact. Conceivably, a donor seeking to alleviate greenhouse gas emissions may want to know whether or not a non-profit’s endowment funds fossil fuel companies.
Since a DAO is built upon smart contracts, its actions are stored on a blockchain – usually one that is permissionless – and practically immutable. In other words, DAOs could be held more accountable for their decisions, as their organizational records would be accessible to the public and their actions are theoretically unerasable. The treasury of a DAO could provide clearer insights into how income is generated, where assets are allocated and the voting measures to determine distribution of funds.
Apart from financial transparency, the decentralized governance of a DAO could allow for more diverse inputs that reflect the opinions of those most affected by an organization’s business processes. While its heterogeneity may be subject to membership requirements, a DAO offers the potential to reconcile viewpoints from otherwise fragmented stakeholders in a value chain through cooperative decision-making. Moreover, voting outcomes can be integrated into the logic underlying smart contracts, thus enabling DAOs to readily adapt to changing circumstances and swiftly translate ideas into actions.
In the context of for-profit companies, DAOs would provide a voice to shareholders whose interests may not be fully represented by corporate directors. A DAO could, in theory, assuage the concerns of activist investors since all of the organization’s decisions, and specifically any modifications to its smart contracts, would be determined through open and accessible on-chain voting. Similarly, a non-profit could be governed in part through inputs from beneficiaries of the organization’s charitable purpose. This could further enable non-profits to function as community-driven organizations that continuously act in accordance with their charitable missions.
Without the formation of a legal entity, a DAO could be construed as a de facto partnership where members have entered a business relationship towards a common goal. In the event of a dispute, individuals within the DAO could be subject to unlimited joint and several liability. Existing legal structures such as corporations and LLCs, however, may not be suitable for DAOs given the requirements for centralized management and disclosures of beneficial ownership. To address these bottlenecks, regulators in Wyoming, Tennessee and Vermont have begun to pave the path for DAOs through the recognition of DAO LLCs that allow for governance mediated through smart contracts and confer limited liability to DAO members.
Presumably, the legal frameworks for DAOs will continue to evolve as the broader blockchain and cryptocurrency regulatory landscape becomes clearer. Nonetheless, DAOs are already poised to impact society and should be propelled by favorable ESG tailwinds. Taken together, the WEF’s introduction of the DAO toolkit is quite timely and could lay the groundwork for the next generation of socially responsible businesses.
3. Delaware adopted Public Benefit Corporations in 2013, thereby allowing corporate directors to consider impacts to stakeholders without breaching fiduciary duties to shareholders. 8 Del. C. § 362 (2022).
4. A Public Benefit Corporations in Delaware is required to make biennial statements pertaining to the promotion of its stated public benefit, but not about its broader scope of activities. 8 Del. C. § 366 (2022).